The April report says"Losing a key contract has caused the stock price to fall but now gives us a margin of safety to buy this premium company."My question is, this happened in October. And the price did fall from 60s to low 50s. Why did this stock not get recommended then? Why now. What has changed. If someone can explain, I would appreciate it.
A major insurance company walked away from DGX and instead signed with a competitor. I think it was United Health Care and they signed with a new company, Lab something.UNH had enough business to baseload a new competitor. Thus keeping Quest humble.See--http://www.fool.com/investing/general/2007/04/19/quest-diagnostics-becomes-un-united-fool-by-number.aspx
IMO, the issue with the loss of business to Lab Corp is not the deal itself (these things happen) but management's reaction to it. Here's a thread from another Board on the subject:http://boards.fool.com/Message.asp?mid=25088033&sort=whole&vstest=search_042607_linkdefaultDGX's price has held pretty firm since then, but my opinion is the same. A local radio station in NYC (WCBS) has actually been running cheesy scripted ads where the Doc is extolling the virtues of using Quest to process lab results. Maybe I'm missing something, but I don't see how this is an intelligent use of marketing resources. Managed care in the 21st Century just doesn't work like that.
To me this is not unlike the HBO/Showtime deal of 20 years ago. HBO had so much share that it was assumed that they were the only premium movie service that mattered. Therefore, a movie's value of cable was whatever HBO was willing to pay to show it.But one movie company decided to break this grasp by signing an exclusive deal with Showtime/The Movie Channel. In doing so, they enhanced the value of Showtime with their business and made a viable competitor to HBO. Thereafter, there were two bidders for movies. And value of movies was enhanced.DGX apparently thought they were the only service out there with a national network able to serve all of UNH's insured. UNH drove a hard bargain and when DGX would not come around, they used their business to base load a competitor. With a long term contract from UNH, Lab Corp could get funding at the bank to equip its expanded facilities.And keep in mind, there are all sorts of obscure tests out there. DGX may run more of them than anyone else, but people are quite willing to send the obscure tests to an outside lab. But A few dozen tests are run all the time. They need facilities to draw blood, and run those most common tests promptly in every part of the country (or Fed Ex specimens to other labs if they lack local facilities).But now that Lab Corp has their labs financed, equipped and in place, they are now very ready to negotiate with other insurance companies possible for more profitable business. But they now can keep DGX honest.DGX seemed to think they were essential and could name their own numbers. But the insurance industry played games--as big customers often do--to bring in a competitor to get better pricing. They were successful. DGX lost.But now, Lab Corp might get bought out by someone else and the game repeats itself. They might also lose the UNH contract next time if DGX decides to be aggressive.
A friend recently pointed out that the incremental cost of producing one additional of a mass produced product like an auto fender can be miniscule. Most of the cost is in setting up to produce the first one. Once you have produced thousands (or millions), one more becomes almost free.This baseload model also applies to DGX and the lab business. The incremental cost per sample can be very low. Hence, base load customers can be critical to competitors and extremely profitable to DGX if they manage to get them to pay anywhere near full price.
Mark, sorry to disagree. Dont mind the "cheesy" characterization, but two important things worth noting. 1) Virtually every major drug co. runs ads direct to consumers and it is a marketing strategy that has continued to be proven by results. Doesnt surprise me that a lab would try to do the same. 2)If you have insurance and high deductables like many of us, you would ask for Quest to do your tests too, rather than pay the cost at a hospital lab. Health care in the 21st Century demands you the patient take an active role in managing both care and costs.
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